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  1. #321

    Default Re: Students of Roger Montgomery's (Buffett's) intrinsic valuation method

    I wrote this blurb to clarify some thoughts that flowed from thinking about Roger Montgomery's value investing methodology. I applied the RM methodology (as far as I understood it) to TGA because it is the stand-out investment I have in terms of performance and relative value to my total portfolio. I have also some of the words below in the TGA thread of this forum.

    Because TGA was rarely mentioned in the financial media, and it was illiquid, I worried that my affection for TGA might have been mistaken on the same basis that one does not pick up a $50 note, because were it a $50 note, somebody else would have picked it up earlier! As an investor (not trader) I now ignore much of what is said or written by those who presume to know about investing on the ASX, and instead I look for the unheralded performers that are under valued, which can be fairly small companies.

    Seeing that RM classed TGA as an A1 stock, over Easter I decided to see how TGA's “intrinsic value” pans out using RM's methodology, and these figures are set out below. The results coincide reasonably well with my own crudely calculated intrinsic value of TGA, which was also the case with other stocks, so I conclude that although I do not agree 100% with RM's views, most of the differences are semantic (language pedantry). For instance, if RM says a share's intrinsic value is $1 today (Y1), $2 in Y2 and $3 in Y3, I am sure that nobody would for $1 give me a thus-worded IOU that allowed me to opt to take $3K in Y3, because people would ascribe a higher present value to the IOU than the Y1 “intrinsic value”. There is no problem using words in a specific way – for instance, economists use the word “utility” to have a unique meaning that does not accord with Mr Everyman's use of the word.

    Also, RM denigrates using PER, and yet a target PER is the reciprocal of the RR (required rate of return), and one can arrive at the same conclusion using target PERs, just as one gets the same arithmetical result dividing by 2 as one gets multiplying by .5 (the reciprocal of 2). To elaborate, if one could get a no-debt share with a long-term ROE of 15% for a PER of 6, one would buy the share, and likewise if one used RM-style logic because the following mathematics using ROE = 15% and RR = 10% would show it to be priced below “intrinsic value” with a good margin of safety:

    * If equity per share is E, and the ROE is 15%, then the EPS would be 0.15E.
    * If RR is 10%, and the EPS = DPS, then the RM factor is 15% divided by 10%, or 1.5
    * The RM “intrinsic value” would be 1.5 times E, or 1.5E
    * Consequently, for a PER of 6, the market price for an EPS of .15E would be .9E
    * One could consider buying because 1.5E > .9E with a margin of safety

    If one did not think about ROE and intrinsic value, and one wanted an RR of 10% for a stock of this quality, one would use a target PER equal to the reciprocal of 10% (1 divided by 10%), which is 10. With the market PER being 6, one would buy the stock because 10 > 6. The margin of safety would be the same, because, not surprisingly, the ratio of 1.5E to .9E is the same as the ratio of 10 to 6.

    RM's ROE-centric approach has the advantage of pushing one towards quality shares, but it can throw up companies (e.g., financial planning firms) that rely on skillsets rather than capital, where senior staff may be able to walk off with both the skillsets and many of the customers, and the same applies to firms with business models that are easily replicated – e.g., The Reject Shop (TRS).

    I am not comfortable with the factors that RM uses for zero-dividend shares – I think they are too high. I have not attempted to retro-calculate these factors, but I suspect that RM's calculation of them assumes that all the earnings can be employed at the current high ROE, and that the alternative use to which an investor can put the money is at the bank deposit rate, as opposed to superb alternative investments in the ASX, particularly if the funds are within a no-tax-pension-paying SMSF environment, as is the case for half of my total TGA holdings.

    TGA's figures for YE 31/03/2011 and YE 31/03/2012 could be improved soon, because TGA should come out with the YE 31/03/2011 preliminary report on 24 May 2011, and this should provide a better basis for YE 31/03/2012 than my guesstimates below, where I guesstimated:

    * 31/03/11 equity by adding for H2 the increase for H1;
    * 31/03/12 equity by adding 50% of the estimated earnings;
    * 31/03/11share # by adding the performance rights # to the 30/09/11 #;
    * 31/03/12 share # by simply adding a further 1.5 million shares;
    * YE 31/03/11 earnings by taken the mid point of the forecast $22M to $23M; and
    * YE 31/03/12 earnings by adding $3M to YE 31/03/11 earnings,

    and I assumed the payout ratio is a consistent 50% and an RR of 10% was suitable for TGA (an A1 company), plus I arrived at the RM factor for zero dividends by primitive interpolation from the table on page 184 of RM's book “VALUABLE”.

    . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . YE 3/2009 . . YE 3/2010 . . YE 3/2011 . . YE 3/2012
    Earnings YE 31/3 . . . . . . . . . . . . . . . . . . $12,320K . . . $19,495K ,. . $22,500K . . .$25,500K
    Equity - start of year . . . . . . . . . . . . . . . . $66,162K . . $69,262K . . $81,767K . . . $94,791K
    Equity – end of year . . . . . . . . . . . . . . . . $69,262K . . $81,767K . . $94,791K . .. $107,541K
    Average Equity . . . . . . . . . . . . . . . . . . . . $67,712K . . $75,514K . . $88,279K . . $101,166K
    Earning/Average Equity . . . . . . . . . . . . . . . 18.19% . . . 25.82% . . . . 25.49% . . . . 25.21%
    Shares . . . . . . . . . . . . . . . . . . . . . . . . . . 128726K . . 129441K . . . 130737K . . . 132237K
    Av Equity per shre . . . . . . . . . . . . . . . . . . $0.5260 . . .. $0.5834 . . . $0.6752 . . . $0.7650
    EPS . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9.57c . . . . . 5.06c . . . . 17.21c . . . .. 19.28c
    RR (required rate of return) 10%
    Assume Payout Ratio 50%
    RM's factor where DPS=EPS . . . . . . . . . . . .. 1.8195 . .. . 2.5816 . . . . 2.5487 . . . . 2.5206
    RM's factor where no div . . . . . . . . . . . . . . . 2.9447 . .. . 5.5210 . . . . 5.3929 . . . . 5.2833
    Factor (average above) . .. . . . . . . . . . . . .. . 2.3821 . .. . 4.0513 . . . . 3.9708 . . . . 3.9020
    Intrinsic Val (Factor x av equity per share) . .. $1.253 . . . . $2.363 . . . . $2.681 . . . . $2.980

    Remember, in the table above the words “intrinsic value” are used in RM's time-static way, whereas it is normal to consider the time-value of money when estimating value for a point in time. This is why one needs to guesstimate a string of “intrinsic values” to get a feel for whether one should invest or not. Also, I am a tad apprehensive of the row of numbers for “RM's factor if no dividend” - too high, maybe.

    If one simply dreamed up conservative PERs for each of RM's classifications A1 to C5 for an EPS=DPS setting, and another for a no-dividend setting, one could quickly arrive at a list of investment candidates by comparing the market PER to this list. For TGA, one could simply assume that a share of this quality should enjoy a PER of say 14.5, which to err on the conservative side is an average PER, and arrive at 17.21 cents x 14.5 = $2.50 as an intrinsic value. TGA is better than average, which is why RM classes it as an A1, so one could use a higher target PER and get a higher value – e.g., 17.5 would give $3.01. In my view, TGA is worth somewhere between $2.50 and $3.00.

    RM's views helped me consolidate my own investing approach, and to a degree, thanks to his book, ROE is central to my stock-picking approach now, but more for “soft” reasons than as the core of an arithmetical exercise. As I wrote earlier, some businesses thrown up via the RM methodology require little capital, and hence they can generate high ROE, but if managers can walk off with a slice of the client base and the intellectual capital between their ears, things can quickly go awry. This perhaps is why Fiducian (FPS) does not excite me, although it has high ROE. lowish PER, good dividend yield, no debt, low Aspect Earnings Model, et cetera - although I would look at it again if I had the readies to invest, and I have invested in SGH which has a similar risk of senior staff walking away with a chunk of the business, rather than sharing the loot with pesky shareholders, particularly the Chardonnay socialists who floated SGH and gave themselves fat salaries and millions of share as quid pro quo for the original legal practice.

    I do not comprehend the Aspect Earnings model as well as I would like to, but if it is less than unity, then at least somebody reckons the share is worth considering. In a different but similar vein (easy replication of business model), when I walked through Tuggeranong Mall in the ACT last year, I noticed that more than one Asian-owned-and-staffed business competing with The Reject Shop (TRS) had popped out of the woodwork, which is part of the reason why I opted for Cash Converters (CCV) at a SP of 63 cents instead of TRS or JBH.

  2. #322
    Retired bigdog's Avatar
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    Default Re: Students of Roger Montgomery's (Buffett's) intrinsic valuation method

    Are their any guess on the gold stock that Roger is buying?
    DYOR, I am not a financial advisor

  3. #323

    Default Re: Students of Roger Montgomery's (Buffett's) intrinsic valuation method

    Quote Originally Posted by bigdog View Post
    Are their any guess on the gold stock that Roger is buying?
    My guess was MML but thats because it meets my criteria which is a lot like Roger's and is a bit of a favourite of mine. Someone else mentioned GDO I believe but I don't know enough about GDO to comment.

  4. #324

    Default Re: Students of Roger Montgomery's (Buffett's) intrinsic valuation method

    Quote Originally Posted by kermit345 View Post
    My guess was MML but thats because it meets my criteria which is a lot like Roger's and is a bit of a favourite of mine. Someone else mentioned GDO I believe but I don't know enough about GDO to comment.

    Maybe RMS Ramelius. I like this one and bought in the other day at 1.17. It's intrinsic value is more than double this by my calculations.

    I don't know that Roger would be so keen on GDO after their recent expensive acquisition.

  5. #325

    Default Re: Students of Roger Montgomery's (Buffett's) intrinsic valuation method

    I watched an ASX investor hour presentation last night and the lady on that was talking about valuing companies as such but from a very different approach.
    IV is only one measure but definitely one I place a lot of weight on. Company fundamentals are also important but this other measure got me thinking, PER (Price Earning Ratio) ie Share Price / Earnings Per Share.

    I know in simple this can be flawed but what is the concensus on this as an additional checklist.

    The other interesting thing was how it was mentioned that the best companies for long term growth are SmallCaps and also low PER.
    Something ive thought to be true, ie TRS, JBH are good examples of that.

    On the presentation they funnily enough mentioned Finbar which I bought into the other week. It has a low PER at the moment.
    Anyway on my Excel sheet ive added it as another indicator,

  6. #326

    Default Re: Students of Roger Montgomery's (Buffett's) intrinsic valuation method

    Hi All,

    I have read Roger Montgomery's book and I have question about adopting this strategy.

    How do you guys do basic filtering to eliminate all the junk ?
    Is there any way to say I want a list of all these companies meeting these ratios so the you can put time into researching their fundamentals.

    Hope I make some scenes

    Thanks in advance

    Cheers
    Sri

  7. #327

    Smile Re: Students of Roger Montgomery's (Buffett's) intrinsic valuation method

    Quote Originally Posted by luckyforteja View Post
    Hi All,

    I have read Roger Montgomery's book and I have question about adopting this strategy.

    How do you guys do basic filtering to eliminate all the junk ?
    Is there any way to say I want a list of all these companies meeting these ratios so the you can put time into researching their fundamentals.

    Hope I make some scenes

    Thanks in advance

    Cheers

    Hi a read throe this forum might help i have just read all 17 pages interesting stuff, then there is etrade quotes and research/ tools were you can use the stock filters go advanced ROE above .2 =20% for a start.

    Hope that helps
    cheers ton
    Sri
    Hi a read throe this forum might help i have just read all 17 pages interesting stuff, then there is etrade quotes and research/ tools were you can use the stock filters go advanced ROE above .2 =20% for a start.

  8. #328

    Default Re: Students of Roger Montgomery's (Buffett's) intrinsic valuation method

    Quote Originally Posted by ton69 View Post
    Hi a read throe this forum might help i have just read all 17 pages interesting stuff, then there is etrade quotes and research/ tools were you can use the stock filters go advanced ROE above .2 =20% for a start.
    Thanks for the reply mate,

    I have been following this this thread on and off. The biggest problem that I have is I was looking to filter stocks based on custom ROE and D/E. I am with comsec and couldn't find a way.

    Is there anyway to do this in comsec ?

    Cheers,
    Sri

  9. #329

    Default Re: Students of Roger Montgomery's (Buffett's) intrinsic valuation method

    Quote Originally Posted by luckyforteja View Post
    Thanks for the reply mate,

    I have been following this this thread on and off. The biggest problem that I have is I was looking to filter stocks based on custom ROE and D/E. I am with com-sec and couldn't find a way.

    Is there anyway to do this in com sec ?

    Cheers,
    Sri
    Hi Sri
    Sorry i am only a Etrade customer mainly because i love there Etrade Pro software but its expensive for a value investor at $77 a month but i do over 200 buy sells a year so free when you are paying that sort of brokerage.
    I am such a fan of the RM value style of investing that i am considering giving up on the sole-trader [higher tax] and concentrate on the value investing.
    Someone made a list of stocks a couple of pages back that are a excellent start but really no mater how good your stock filter is its going to chuck out 70 to 150 stocks to look throe which is a lot of work and sometimes that may be a property investor with a 1 off sale of a building so have a ROE of 80% but for this year only
    This value investing is great and i am a huge RM fan but he makes it look and seem relatively simple mainly because he is very smart and secondly he has been doing it a long time. I might spend 2 hours looking into a company and its annual report to see if its any good RM could probably do that in minutes and he would still be more right that me. Also i notice in this forum several people are using Etrades data or Com-sec. We should be using the annual reports as the data all the online brokers use is entered in by low paid often overseas opperators and can be prone to mistakes

    Open a acc with Etrade its free but only if you want to sort thou a fairly long list of company's and even then the filter might miss some i know Etrades does
    Its allot of work the only true way and the way RM does himself is to go thou all 2400 odd stocks annual reports some you discard strait away but thats how the master does it
    cheers

  10. #330

    Default Re: Students of Roger Montgomery's (Buffett's) intrinsic valuation method

    I love the RM style of investing too.
    I was lucky to meet a guy who really is into trading and cant speak highly enough of RM so therefore told me when it comes to trading, that if I only read one book, then value.able is it.
    Ive been confident enough now to make my own trades.
    Ive purchased in MCE, FGE, TGA and FRI.

    I'd love to know where RM gets his figures from for some of the intrinsic values, as his latest entry on his blog re MCE has them with a declining IV over the next 3 years. Also his IV is lower than the 1 I worked out.

  11. #331

    Default Re: Students of Roger Montgomery's (Buffett's) intrinsic valuation method

    Wow, Roger certainly doesn't need to pay for advertising with spruiking such as is exhibited in the above two posts going on!
    Hope your discipleship is being well rewarded, fellas.

  12. #332

    Default Re: Students of Roger Montgomery's (Buffett's) intrinsic valuation method

    Thanks Julia,
    Im new to all this, but the rewards have been the excitement and thrill/addiction of investing so far.
    Its been since March I made my 1st buys, and its really a long haul so time will tell.

  13. #333

    Default Re: Students of Roger Montgomery's (Buffett's) intrinsic valuation method

    haha Julia he certainly does have a following. I haven't read his book and don't really plan to at the moment as i'm not much of a book reader myself anyway. But if you've read some of his blog, the people who have read his book seem to swear by it. Probably doesn't hurt that they all follow him when he mentions a stock now and get the initial burst from it which just makes him look even more like a god.

    Don't get me wrong, I really like his approach and adopt something similar for the 'value investing' portion of my portfolio. The two stocks i've invested in so far using my formula's are FGE and MML. FGE hasn't really gone anywhere but MML has done reasonably well.

    I simply use the etrade data, and you can usually tell if their figures are around the mark. You have to remember that while valuing a company and what you think its worth, it is never going to be an exact science. Is a business that you value at $6.13 really a better venture then one valued at $6.00? As long as your formula takes into account the risks and your data is approximately correct or to the conservative side then you will be comfortable with your valuations.

  14. #334

    Default Re: Students of Roger Montgomery's (Buffett's) intrinsic valuation method

    Quote Originally Posted by ton69 View Post
    Hi Sri
    Sorry i am only a Etrade customer mainly because i love there Etrade Pro software but its expensive for a value investor at $77 a month but i do over 200 buy sells a year so free when you are paying that sort of brokerage.
    I am such a fan of the RM value style of investing that i am considering giving up on the sole-trader [higher tax] and concentrate on the value investing.
    Someone made a list of stocks a couple of pages back that are a excellent start but really no mater how good your stock filter is its going to chuck out 70 to 150 stocks to look throe which is a lot of work and sometimes that may be a property investor with a 1 off sale of a building so have a ROE of 80% but for this year only
    This value investing is great and i am a huge RM fan but he makes it look and seem relatively simple mainly because he is very smart and secondly he has been doing it a long time. I might spend 2 hours looking into a company and its annual report to see if its any good RM could probably do that in minutes and he would still be more right that me. Also i notice in this forum several people are using Etrades data or Com-sec. We should be using the annual reports as the data all the online brokers use is entered in by low paid often overseas opperators and can be prone to mistakes

    Open a acc with Etrade its free but only if you want to sort thou a fairly long list of company's and even then the filter might miss some i know Etrades does
    Its allot of work the only true way and the way RM does himself is to go thou all 2400 odd stocks annual reports some you discard strait away but thats how the master does it
    cheers
    Thanks for the reply ton69. It has cleared lots of doubts that I had about getting data. I would agree with you that we should be using annual reports, I would agree that it would be lot of work but as we all know there is nothing like free lunch.

    No Pain......No gain.

    I still need to workout a way to create a basic filter for comsec so that I can get my list down to 50 - 100 and go from there.

    Cheers,
    Sri

  15. #335

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    Default Re: Students of Roger Montgomery's (Buffett's) intrinsic valuation method

    Quote Originally Posted by luckyforteja View Post
    Thanks for the reply mate,

    I have been following this this thread on and off. The biggest problem that I have is I was looking to filter stocks based on custom ROE and D/E. I am with comsec and couldn't find a way.

    Is there anyway to do this in comsec ?

    Cheers,
    Sri
    Yes there is.
    Tick on NEWS & RESEARCH,
    Then on COMPANY RESEARCH,
    Then on ADVANCED SEARCH TOOL.

    Can then make a list of whatever you like - ROE,D/E etc. etc.

    Simple as that.

    Good luck with it.

  16. #336

    Default Re: Students of Roger Montgomery's (Buffett's) intrinsic valuation method

    Has anyone had a look at JB Hifi since the buyback?

    Using some rough calculations i now have the IV rising from $22.76 to $23.96 for 2011. Puts it at quite a nice discount at current prices.

  17. #337
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    Default Re: Students of Roger Montgomery's (Buffett's) intrinsic valuation method

    Quote Originally Posted by oxygen View Post
    Has anyone had a look at JB Hifi since the buyback?

    Using some rough calculations i now have the IV rising from $22.76 to $23.96 for 2011. Puts it at quite a nice discount at current prices.
    How is JBH going to keep increasing EPS? The only means seem to be through buyback.
    Buying back indicates that they have no other better use for their cashflows. If that is the case, the cash won't be generating returns at historical ROE, which is what the IV method assumes.

  18. #338

    Default Re: Students of Roger Montgomery's (Buffett's) intrinsic valuation method

    Quote Originally Posted by skc View Post
    How is JBH going to keep increasing EPS? The only means seem to be through buyback.
    Buying back indicates that they have no other better use for their cashflows. If that is the case, the cash won't be generating returns at historical ROE, which is what the IV method assumes.
    Still have quite a few stores to open which will increase EPS for at least a few years. I do however see your point once they reach their goal of 210 stores or whatever it is...

  19. #339

    Default Re: Students of Roger Montgomery's (Buffett's) intrinsic valuation method

    Quote Originally Posted by ValueSnatcher View Post
    Still have quite a few stores to open which will increase EPS for at least a few years. I do however see your point once they reach their goal of 210 stores or whatever it is...
    The point he is making is that you can't use their existing return on equity figure to value the company, Because future deployments of capital will not produce the same returns as past deployment.

    Even new store openings are likly in second tier markets producing less returns, and cash deplyed into the buy back is buying back equity at well above book value.

    No doubt JB is a sound business producing good results. But Caution should be taken when working out how much above book value you are willing to pay, considering the dividend and the rates of return that will be achieved on retained earnings.

  20. #340

    Default Re: Students of Roger Montgomery's (Buffett's) intrinsic valuation method

    Hi All,

    Recently i've been working on and upgrading my value investing spreadsheet so that it automatically provides some more interesting and relevant graphs of the information and the IV's. As a practice run i've added 4 stocks to the spreadsheet to produce some graphs. I personally use a value rating system that rates each stock between 0-100 based on their own metrics and how they compare to the other stocks included. Therefore 4 stocks isn't exactly a great starting point, but as I said its more a test run and will add more stocks once i finalise the layout etc. The reason i've posted this here as Roger has had a huge influence on my thoughts around value investing and i've basically taken everything on board when creating my spreadsheet and the only element I haven't used is his actual formula.

    The following graphs are what my spreadsheet outputs at the moment. I'm interested to know some thoughts from others on what else I could include or how I could change these to look better or provide greater information.

    PTM



    MML



    All suggestions etc welcome!

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